Tax planning for freelancers

In the past, employment seemed to provide a certain level of income certainty that was definitely not available in business or self employment.

This comfort in employment seems to have been greatly eroded especially after the days of numerous “golden handshakes” in the public sector and downsizing in the private sector.

Despite the revenue comfort that employment provides, it is probably the least tax efficient form of revenue generation.

In effect, for employees, one is supposed to earn an income, pay the taxes on the gross income and thereafter spend.

There is usually extremely few deductions allowed when computing employment taxes and the quantum of the deductions is usually dismal (in Kenya, personal relief, insurance relief, mortgage interest relied and pension are the only allowable deductions).

Indeed, one usually finds that some of the expenses incurred are necessary for the performance of one’s employment activities, but they would still not be allowable for taxation.

Self employment (including freelancing) is probably the most efficient tax strategy for individuals as you are in control of your income, expenses and taxes.

The most critical point before one commences self employment is to understand the tax regime and to organise their affairs in such a way as the income and expenses can be defended against a revenue authority audit or investigation.

The most tempting thing for a freelancer to do is to try and reduce their taxable income.

This is possible by shifting income from taxable income to non-taxable income.

Non-declaration of income, however, is rather dangerous and can lead to penalties and interest (and in extreme cases custodial sanctions).

As a self employed individual, whether operating as a sole proprietor or under a company or other vehicle, the most important aspect of your business, from a tax point of view, is record keeping.

The most basic records are what are usually considered to be financial records (receipts, invoices, etc).

Though these are important they are by no means conclusive.

It is also important that you maintain the business support documentation.

This would include business notes, contracts, budgets, plans, etc.

The main purpose for maintaining such information is to create a defence against a revenue authority’s contention that the expenses incurred were not incurred for purposes of the business, i.e. they were not necessary for the generation of taxable income.

It is also important that a system of analysing and classifying the expenses is developed.

This can be as simple as using a worksheet to using a simple accounting system (e.g. quick books) to more sophisticated ways like using complete accounting packages.

Once the records are maintained, supported and classified, it would be possible for some activities which would ordinarily be considered hobbies (a round of golf perhaps) to end up being supported and legitimate business expenses.

Moreover, a number of personal expenses (e.g. travel, telephone, home internet, etc) can also be business expenses.

What is important is that you are in a position to support the expenses as well as justify why they were incurred.

kthuo@vivaafricallp.com